Abstract: Shanshui Cement achieved a net profit of 348 million yuan in the first half of 2013, a year-on-year decrease of 52%, accounting for only 24% of the market's unanimous forecast of net profit for the full year of 2013. Although the company announced a profit decline of more than 40% in the previous interim earnings warning, the company's performance in the first half of the year was still lower than the market and our unanimous expectations, mainly due to higher management fees and tax rates on tonnes of sales. Based on the company's lower-than-expected performance in the first half of 2013 and our cautious attitude about rising cement prices in the Shandong and Liaoning markets in the second half of the year, we lowered the target price of Shanshui Cement to HK$3.64, and downgraded the rating from buying to neutral. Differences from the public: The results for the first half of 2013 fell short of expectations. In 2013, the company achieved net profit of 348 million yuan, a year-on-year decrease of 52%, accounting for only 24% of the net profit for the full year of 2013 as predicted by the market. In 2011/12, the company's net profit for the first half of the year accounted for 56/ 48% of the net profit for the whole year, respectively. Although the company announced a profit decline of more than 40% in the previous interim report profit warning, the company's performance in the first half of the year was still lower than the market and our unanimous expectations, mainly due to 1) the increase in sales management expenses of 8 yuan/ton to 26 yuan/ton; 2) the tax rate rose to 38% from 27% in the first half of 2012. The company's gross profit per ton in the first half of 2013 was 59 yuan/ton, a year-on-year decrease of 14 yuan/ton. Sales volume was 27.2 million tons, up 7.8% year on year. The net balance ratio declined, and the net balance ratio of Shanshui Cement, which had poor cash flow conditions, fell to 130% from 143% at the end of 2012. However, the receivables cycle increased from 34 days in the first half of 2012 to 67 days in the first half of 2013. Meanwhile, the inventory cycle declined from 72 days in the first half of 2012 to 51 days in the second half of 2013, and the payables cycle increased from 88 days in the first half of 2012 to 94 days in 2013. As a result, the number of working capital turnover days increased from 18 days in the first half of 2012 to 24 days in the first half of 2013. Operating cash flow fell 82.6% year on year to 228 million yuan, indicating the company's poor cash flow situation. Prices are expected to rise by an appropriate margin in the second half of 2013. The cement price trend in Shandong and Liaoning in the first half of 2013 was not as good as in East China and Central China. We expect the weaker supply and demand pattern in these two provinces to continue into the second half of 2013. However, due to the peak season effect, we expect the company's gross profit per ton in the second half of 2013 to return to 59 yuan/ton in the first half of the year to 75 yuan/ton. Core assumptions: We expect the company's sales volume in 2013 to be 60 million tons, and the gross profit per ton of cement is 68 yuan/ton. Valuation & Target Price: Based on lower-than-expected performance in the first half of 2013 and our cautious approach to price increases in the second half of the year, we lowered the company's profit forecast for 2013 by 46% to 0.41 yuan per share. Therefore, we lowered our target price from HK$6.52 to HK$3.64, corresponding to a 7.0-fold forecast price-earnings ratio for 2013. Accordingly, we downgraded the rating of Shanshui Cement from purchase to neutral, based on the limited room for growth corresponding to the current price. The catalyst for stock price performance: cement prices will rise higher than expected in the next few weeks. Investment risk: China's economic reforms may cause cement demand to be weaker than expected